For most homeowners, the biggest motivators for buying into home solar power are the rising energy rates being charged by PG&E, SMUD, and other utilities. This goes double for anyone being transitioned to time-of-use rates. On average, our customers see energy bills drop by at least 75% after installing a solar power system.
But, there are other financial incentives for going solar. One of the best of those incentives currently being offered is the ITC, or Investment Tax Credit. (Please note that we are not tax experts. Please consult with your tax preparer when claiming the solar ITC).
What is the Investment Tax Credit?
The Investment Tax Credit—often referred to as the Solar Investment Tax Credit—is offered by the federal government to people who purchase solar power systems for their homes or businesses. It’s designed to cut the up-front cost of investing in solar by giving you a partial refund on your solar power system.
It’s important to note that this is not a deduction. Deductions simply reduce the amount of taxable income you have, while tax credits directly reduce the amount of money you owe to the government.
To help show the difference, imagine that you make $60,000 in taxable income this year, and owe $3,000 in taxes. A tax deduction of $3,000 would reduce your taxable income to $57,000, meaning that the taxes you owed on it would be reduced slightly, maybe by a couple hundred dollars.
On the other hand, a tax credit of $3,000 would be subtracted from the $3,000 tax bill, reducing it to $0. That’s a big difference
What costs relating to installing a solar power system does the solar tax credit cover?
The solar ITC is calculated as a percentage of the cost of a solar power system, solar hot water heaters, and wind turbines. But it covers much more than just the hardware. Other related costs which are incorporated include:
- Home batteries and other energy storage systems (even if installed after your solar power system)
- Labor costs for the preparation, assembly, and installation of the system
- Permitting fees, inspection costs, and development fees
- Wiring, inverters, and mounting equipment
- Sales taxes on all eligible expenses
In addition, even some or all of the cost of installing a new roof can fall under the umbrella of the solar tax credit, particularly if your existing roof makes it difficult to install a solar power system. The IRS’s instructions for homeowners applying for the solar credit states, “No costs relating to a solar panel or other property installed as a roof (or portion thereof) will fail to qualify solely because the property constitutes a structural component of the structure on which it is installed.”
However, if you’re planning on incorporating the cost of a new roof into your solar tax credit, the roof replacement and solar power installation should occur within a short time frame. The IRS may raise an eyebrow if you make a claim for a new roof, and then wait a couple years to install solar power. It’s also wise to only claim a percentage of the cost of a new roof based on the amount of roof space your solar power system occupies. If your solar power system covers a third of your roof, then you should probably only claim one-third the cost of your roof replacement.
You can also claim some or all of the tax credit for installing a solar power system on vacation and rental homes you live in at least part of the time.
Many people also fail to realize that the legal language of the tax credit is fairly flexible. Solar-improved homes eligible for the tax credit are defined as any home, “where you lived… and can include a house, houseboat, mobile home, cooperative apartment, condominium, and a manufactured home that conforms to Federal Manufactured Home Construction and Safety Standards.”
What you need to be careful about is that the credit cannot be claimed for rental properties and other properties which you don’t live in. But if you install a solar power system on a rental or vacation property that you live in for part of the year, you can claim a percentage of the credit. For instance, if you were eligible for a $5,000 credit for a home you live in 25% of the year, you could claim $1,250 of the credit.
But the time to claim the full value of the tax credit is running out. Here’s how much time you have left:
How much is the solar tax credit worth, and when is the value of it going to change?
This is the tricky part. The value of the ITC depends not only on the cost of your solar power system but also when you have the system installed and activated. Systems “placed in service” by December 31, 2019 can be credited for 30% of the total cost of installation, after deducting any utility or state rebates. (Note: you do not need to deduct any California or local tax credits—only rebates which reduce the amount you pay upfront for the system.)
But this 30% rate isn’t set in stone. Beginning January 1, 2020, the value of the credit will begin to decrease. The percentage of total costs for which the credit can be claimed is scheduled to decline and phase out as follows:
- 30% for solar power systems placed in service by December 31, 2019
- 26% for systems placed in service between January 1 and December 31, 2020
- 22% for systems placed in service between January 1 and December 31, 2021
- No credit for systems placed in service on or after January 1, 2022
The relatively modest reductions in 2020 and 2021 have led some homeowners to think, “Well, I don’t know if I’m quite ready to go solar, but waiting a little bit isn’t a big deal. 26% versus 30% isn’t a big deal.” But even if the total cost of your solar power system and installation is $25,000, a 4% difference comes out to leaving $1,000 on the table. And that loss will come out to much more if you’re planning on installing a larger system (especially one sized to charge an electric vehicle) or are going to replace your roof.
If you decide to wait until 2021 and your total claimable solar power installation costs comes out to $40,000, you’ll have cost yourself $3,200. And while solar power systems are getting cheaper over time, prices aren’t going down that quickly. You won’t save enough in 2021 to make up for the lost tax credit, and you certainly won’t recoup the costly energy bills you paid in the meantime.
If you plan to go solar while the tax credit is still available, you’ll maximize your savings by acting as soon as possible. This is especially the case because any tax credit can be rolled over into future years. If you qualify for a $9,000 tax credit, but you only owe $3,000 in taxes this year, you can roll the unused $6,000 forward into the next tax year, and into subsequent years if the credit is still active. However, if you buy a solar power system in 2021, you can’t roll any unused credit into 2022, as the credit will be discontinued then. You must exhaust your tax credit by the end of the 2021 tax year, or you’ll lose any remainder.
How do you qualify for the solar tax credit?
If it’s late in the year when you’re reading this and time is of the essence, you should know that the IRS is a little vague as to what stage of installation establishes the date of ITC eligibility. It’s generally understood that it applies to the date on which the system is approved to operate, though some tax professionals advise playing it safe and using the date your utility connects the system to the local grid. (Note: If you lease your solar power system, the owner of the system will receive the ITC, not you.)
You can claim the credit if you buy a new home with a solar power system installed. In this case, the date you qualify for the credit is the date on which you move into the home. However, you must be the home’s original owner, or be the first user of the system.
How do you claim the solar tax credit and fill out the necessary forms?
How you claim the credit depends upon how you do your taxes:
- By hand: Fill out and attach IRS Form 5695
- Using software: Most popular tax software suites include the option to apply for the solar ITC.
- With a tax accountant or processor: Inform the tax professional handling your taxes that you have had a solar power system installed.
Assuming you’re filing your taxes by hand, here’s a quick guide on how to fill out your tax forms (though this can be applied to whatever method you prefer. But first, a quick disclaimer: Capital City Solar is not a commercial provider of tax advice. We strongly advise referring to a tax professional. While we are experts at solar power system installation, we are not tax experts. The below is meant to be a rough guide on claiming the solar tax credit, but you are responsible for doing all the due diligence necessary to correctly complete your taxes.
That being said, as mentioned, you’ll need a copy of IRS Form 5695, Residential Energy Credit. The linked form is for the 2018 tax year. For those filing in 2019 or thereafter, you should be able to download a current version of the form here. Note that some details may change from year to year, so be careful when following the below directions.
Line 1: Qualified solar electric property costs. This is the single most critical box in the entire form, as this is where you indicate the total cost of your solar power system and related installation costs which qualifies for the solar power credit. If you include things that don’t count, and you get audited, the IRS will not be pleased with you. Costs which definitely qualify include the cost of the system (panels, inverters, mounting equipment, etc.), and according to the IRS’s instructions for Form 5695, all costs related to the “preparation, assembly, or original installation” of the solar power system, and any “piping or wiring to connect” the system to your home’s electrical system and the power grid which services it. Sales tax you were charged for all equipment and labor should also be included in your total. As discussed above, home battery systems can likely be rolled into this (check with your tax professional!). The total of all these costs is entered in the box on line 1.
Line 5: Add lines 1 through 4. Unless you also installed a solar water heating system or other qualifying alternative energy system, simply copy the amount from line 1 to line 5.
Line 6: Multiply line 5 by 30% (0.30). This is where the value of your tax credit is calculated. Multiply the amount in line 5 by 0.3 (30%), and enter the result in line 6. Thus, if your total costs were $20,000, the amount you would enter is $6,000. As discussed above, 2019 is the last tax year for which the solar tax credit represents 30% of total expenses for a solar power system. For tax year 2020, you would multiply line 5 by 0.26, and in 2021 you would multiply by 0.22.
Line 7a: Qualified fuel cell property. Unless you know what this is (check with your tax preparer!), this almost certainly does not apply to you. Check “No,” then move to line 12.
Line 12: Credit carryforward from 2018. Enter 0, unless you previously claimed a solar tax credit for an early solar power system. If this applies to you, enter the amount from line 16 of your previous year’s Form 5695.
Line 13: Add lines 6, 11, and 12. Odds are that you are not making a claim on a qualified fuel cell property, and you probably don’t have a previous solar tax credit. So, you’ll just be copying the amount from line 6 to line 13.
Line 14: Limitation based on tax liability. This is where things can get a bit iffy. You will need to refer to the “Residential Energy Efficient Property Credit Limit Worksheet—Line 14.” This is not part of the Form 5695. The worksheet is located on the last page of the Instructions for Form 5695 PDF. The whole reason for this worksheet is that the solar tax credit can only be used to refund on taxes that you’ve actually paid. You can’t get “free money.” Basically, the worksheet is used to calculate your total tax liability, and ensure that you only claim that much of a credit. While this worksheet may look a little daunting, it really only matters if you you have any of the fancy tax credits described in lines 2 through 9 of the worksheet. If you do, then you need to fill out the worksheet (or better, have your tax preparer fill it out).
If you do not have any of those tax credits, you can skip the worksheet. Instead, refer to line 11 of your Form 1040. This is where you enter your total tax liability (the amount of tax you owe on your income after the usual deductions). Take that amount, and copy it to line 14.
Line 15: Residential energy efficient property credit. As we said, you can only claim a credit for taxes that you actually owe. Your credit can’t be more than you paid/would pay. The instructions state that you should look at lines 13 and 14, and copy the smaller of the two amounts to line 15. This means that if the full amount of your solar tax credit (line 13) is less than your tax liability (line 14), then you copy line 13 to line 15, and you’re done with Form 5695, and can skip line 16. If line 13 is smaller than line 14, you do not need to go past line 15. However, if your tax liability is less than your solar tax credit, proceed to line 16.
Line 16: Credit carryforward to 2020. The solar tax credit is designed so that if you cannot claim the full amount of the credit (because you don’t owe enough in taxes), that any unused amount can be carried over to subsequent years. If line 15 is less than line 13 (because you could only claim part of the credit this year), subtract line 15 from line 13, and enter the resulting amount in line 16. This is the credit that you will be able to apply to your taxes the following year. Thus, if you have $3,000 in unused credit from 2019, you can apply it to your 2020 taxes.
While the instructions may have made this whole process feel like a lot of work, it actually takes only a few minutes. Below you can see a completed Form 5695 for a homeowner who owed $10,000 in taxes, spent $30,000 on a home solar power system, and claimed a $9,000 credit.
Now, we’re done with Form 5695, but this information needs to be carried over to your 1040! You’ll need to refer to Schedule 3 (Form 1040), Nonrefundable Credits. Again, the linked form is for 2018. You should be able to find the appropriate form by going here and clicking “Form 1040 (Schedule 3).” Copy the amount from line 15 of Form 5695 to line 53 of Schedule 3. Any other applicable credits on lines 48 through 54 should be filled out in the appropriate boxes. Then total all the credits and write the total in the box on line 55 of the Schedule 3 form. Then take Form 5695 and Schedule 3 and attach them to your Form 1040.
Okay! Last thing. Take the amount on line 55 of the Schedule 3 form, and copy it to line 12 of your Form 1040, and check the small box immediately to the left. In the screenshot below, the line outlined in red is where the tax credit amount is copied to, and the box to the left that needs to be checked is marked with a red “X.”
Now, fill out the rest of your Form 1040, and you’re good to go. You’ve successfully claimed your solar tax credit and saved thousands of dollars on your taxes (and thousands more on your power bill)! Great job!
If you’re considering purchasing a solar power system for your home, and you would like to learn more about how the solar ITC works, contact Capital City Solar by calling 916-256-2785, or send us a message using our contact form!